I’m struggling to understand how an increase in net operating assets represents an increase in accruals?
Can anyone give a simple example of how this works?
See page 358 of book 2 for details
I don’t want to open the book yet if I can answer the question without opening it. This goes back to understanding the current part of the balance sheet.
Let’s consider the liabilities first as that is easier to understand, so if you take example of most simple balance sheet, the only pieces will be there in a simple balance sheet is A/P and interest bearning securities such as notes payable or current portion of the long term debt. In this only A/P is part of operating liabilities as ineterst bearing securities are not considered as part of the operating liabilities. Even if you take an example of complex balance sheet which has components like deferred tax liabilities or other payables, these all are result of accrual accounting.
Total Current Liabilities(A/P + other deferred liabilities + current LTD + STD ) - LTD - Current LTD = Operating Liabilities
Now let’s talk about the asset part. On the asset side, cash and cash equivalents are not part of the operating assets, so the only thing left is going to be AR, Inventory, and deferred tax assets, which are short term in nature. Think it this way, these all are present on the balance sheet because you are trying to smooth out the effect of your cash flows. If you were following cash accounting, the only components you will have on the balance sheet will be either cash out and cash in, nothing more than that.
Total Current Assets - Cash = Operating Assets
So when both of these accruals are netted and you have positive NOA, means you are expecting to receive more than you are expecting to pay. This is what is increase in accruals and decrease in cash. You can correlate this with account receivables.
I hope this helps!